Whitehaven Coal (WHC) – why a re-rate is imminent

Intro

There currently exists a rare opportunity to buy an ASX 100 company that screens attractive on value, offers high growth, and has potential to pay well above market dividends in the coming years.

In October last year WHC emerged as the successful bidder for BHP’s Daunia and Blackwater coal assets (BMA Assets). On announcement of the deal their share price rose near 20%, but the move since fizzled out with the current price now below what it was pre the announcement.

We believe the market’s overlooked how transformational this transaction is and expect a material re-rating once investors see the magnitude of cashflow generated from the combined operation.

The Acquisition – Doubling existing saleable production

The transaction has recently moved unconditional and is expected to complete in early April. Upon completion WHC is set to pay US$2.1bn upfront. A further US$1.1bn in deferred consideration is payable over the next 3 years and contingent consideration of US$900m dependent on realised prices.

The Daunia and Blackwater assets are in close proximity to Whitehaven’s existing operations and offers several strategic advantages. With the inclusion of these assets, sales are set to instantly double from ~14mt in FY24 to ~27mt pa. They’re also planning further growth at Maules Creek and the newly acquired assets to increase group sales to over 31mt pa by FY26. That’s an astonishing 122% increase in production over a very short timeframe from FY23 (pre the acquisition) to FY26. Lets not glance over the fact that this isn’t some small operation that’s gotten bigger. This is one of Australia’s largest coal producers which is set to more than double.

The acquisition also enhances WHC’s sales mix. Historically >85% of Whitehaven’s sales are thermal coal used in energy generation, the remaining <15% of sales is metallurgical coal used in steel making. Post completion the sales mix (by volume) will be roughly even between thermal and met. This provides a more balanced exposure to the two different coal markets and also enhances their ability to blend an optimal sales mix.

Balance Sheet

Doubling the size of your operations with a single transaction comes with a sizeable price tag that not many can afford without a sizeable equity raise. But a unique leadup to the acquisition put WHC in the position to fund the entire transaction without issuing a single new share.

To recall, thermal prices surged from ~$US55/t in 2020 to an average of ~US$240/t in FY22 and US$303/t in FY23. This enabled Whitehaven to build a significant cash balance of $2.8bn by the end of FY23.

WHC will use a combination of cash and a recently secured debt facility of US$1.1bn to fund next months upfront payment of US$2.1bn. The remaining ~US$2bn deferred and contingent consideration will be funded via cash and cashflow over the next three years. Post completion the balance sheet remains in a very comfortable position with gearing estimated at ~20% and Net Debt/EBITDA ~0.7x

Potential 20% sale of Blackwater

WHC is currently looking at the potential to sell down a 20% stake in the newly acquired Blackwater asset. This is a key near term catalyst which could occur before the end of CY24. Talks are already underway with potential partners and proceeds are estimated at US$1bn.

If Whitehaven achieves a sales price in this vicinity, they’ll have the flexibility to pay-out the newly acquired debt and soon be back in a net cash position. That means the cash flow generated from the larger business can flow straight to shareholders.

A key piece the market’s overlooking is there’s been no share dilution, shareholders now own a materially larger business, and the potential 20% sale of Blackwater could soon see them debt free.

Valuation / Upside

The multiples on WHC are cheap. We think there’s material upside to current consensus especially when compared to a current spot price scenario. Consensus figures are also very conservative with some analysts yet to reflect the acquisition in their forecast which understates future earnings.

The forward multiples for WHC represents exceptional value when compared to the ASX materials average of 12.1x. WHC’s PE of 4.1x represents a 66% discount to the sector, or 77% discount on current spot prices.

Key risks to the valuation and upside is potential weakness in the thermal and met coal markets. However, with little new supply coming online and relatively resilient demand we think prices are supported.

It’s also worth noting that WHC is the cheapest constituent of the ASX 100. Trading on an 80% discount to the ASX 100 average of 20.6x.

Conclusion

Opportunities like this within the ASX 100 are rare and short lived. We believe the market’s overlooked how accretive the acquisition of the BMA assets is. And not to mention the transaction is to be funded without any share dilution.

WHC offers high growth with production more than doubling next month when the transaction settles. And the next 12 months is catalyst rich with the transaction closing, and potential 20% sale of Blackwater later in the year.